Option Investor
Index Wrap

Expect modest tone from FOMC

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Traders were cautious ahead of tomorrow's FOMC meeting with bond and stock traders listening closely to what the Fed has to say about the future rate of growth for the economy.

While many expect the Fed to be modestly upbeat, with no change in the Fed's policy on interest rates, traders will be listening with mixed emotions as to how fast the Fed believes the economy will grow in the months ahead.

In recent months, it has been the scenario of good news that has created some bad news from bond bulls as the thought of gross domestic product growing at a 4% to 5% annual rate has had some bond bulls pulling the plug on their Treasury bond holding, making for a rather sharp rise in yields, which has the effect of higher consumer borrowing rates, more notably in mortgage rates, where the consumer has been refinancing existing homes, or purchasing new homes as mortgage rates had plummeted to multi- decade lows.

However, the thought of a more vibrant economy, that has yet to show much in the form of job creation has some feeling the consumer is still vulnerable, and an economy that is still in the earlier stages of recovery, may be better off with a steady and more fractional rate of growth, than a robust early surge in growth, that has the cycle of a near-term balloon once again deflating if consumer borrowing rates vastly begin outpacing jobs growth.

I think the Fed, while positive on the economy, is going to have to tone things down tomorrow as it relates to bullish comments about the economy.

I truly feel, and perhaps the Fed might agree, the biggest threat to economic recovery right now is the back up in Treasury YIELDS. This becomes a number one concern of the Fed, and with that concern, I think they'll keep the tone of comments as "gradual improvement, with a slant toward weakness." These kinds of comments may be focused toward the bond market, to have it holding a bid, and not finding selling, which would put further pressure on YIELDS.

This type of comment from the Fed, will undoubtedly be predicated on the thought that this is the best type of commentary for the markets at this time. If the Fed is too positive on the economy, then Treasuries could sell off, potentially harming an economic recovery.

Stock traders/investor may think they are doomed either way. And while I use the word "doomed," it is probably too strong of a word, but makes for a lower trade over the next several weeks.

Remember. The Feds primary job is to provide a healthy economy. And while on the surface, if the Fed does lie a little about the economy, in order to jawbone a bid into Treasuries to keep YIELDS from rising further, it would be my guess, that this type of Fed jawboning is the lesser of two evils. If the Fed is too positive with its comments, then Treasuries sell off on thought of higher interest rates coming from the Fed anyway, and stocks would most likely suffer as YIELDS move higher. So, given these two potential outcomes, why not try and keep the bond market intact, and stocks, which have had a wonderful run from the March lows, trend back a little (one-and-a-half step back, one step forward) and give time for the job markets to improve.

Bond traders did seem a little more edgy than equity traders in today's trade, with some selling in Treasuries finding YIELDS backing up to levels found at last week's auction

On Wednesday, the Treasury auctioned off $18 billion of 5-year notes with a yield ($FVX.X) of 3.3%, and today's trade saw selling in this shorter-term bond find yield rising 5.7 basis points to 3.255%, nearing Wednesday's auction price, as if to test price support into tomorrow's FOMC meeting. The benchmark 10-year yield ($TNX.X) rose 8.2 basis points to 4.371%, right at Thursday's auction yield of 4.37%.

On a technical basis, both YIELDS are at fairly important levels for traders (stock and bond) to be cognizant of. Should either of these bonds begin to discount from last week's auction prices, both trades could unravel in selling, sending YIELDS higher, which may then weigh more heavily on equities in the near-term.

While Treasuries found selling in today's trade, the U.S. Dollar also exhibited weakness ahead of tomorrow's FOMC meeting, with the U.S. Dollar Index (dx00y) 95.85 -0.52% falling 0.51 points, as foreign investors looked to move some capital to other ports around the globe.

I wanted to quickly discuss a rather simplistic supply/demand observation as it relates to the dollar and Treasuries. When we review the pivot analysis matrix, the U.S. Dollar Index (dx00y) will show a close back below its monthly pivot, represent some weakness in the Dollar since the end of July. Meanwhile, the 10- year YIELD ($TNX.X) is below its July 31 closing YIELD of 4.474%.

One thing, make that... two things that have me more cautious of stocks near-term is that the slight weakness in the dollar hints to me that some money has left the U.S. At the same time, the lower 10-year YIELD has found some buying, but I'm also rather cognizant that the Treasury just auctioned $60 billion in debt. Where did the money come from? While there is always some cash on the sidelines, I'd have to say some of that cash used by investors to take down $60 billion in government debt recently auction, most likely came from equities, which have been range- bound the better part of the last month. This supply/demand theme of quite a bit of cash recently pouring into Treasuries may further have been observed recently in the various declines among the bullish % indicators we've been following on a nightly basis, where we've seen a growing number of supply sell signals growing, and bullish % falling.

Let's take a look at the pivot analysis matrix. In this weekend's Ask the Analyst column, I showed this weeks pivot matrix at the end of that article, which was built around quarterly pivot analysis, something I had not performed on the S&P 500 Index (SPX.X) 980.50 +0.3%.

Pivot Analysis Matrix

I've had intermittent connectivity with the Internet since 01:00 PM EST, and just after the markets closed for trading today, I'm once again without a connection, so tonight's Index Wrap may be a little different than I'm used to writing, as I have no way of showing up-to-the-close charts of the various indexes.

My main observations are this, and they would most likely again focus on the YIELD/Bank relationship, where despite a stronger morning session for the S&P Banks Index (BIX.X) 302.05 -0.26%, which had the BIX.X trading a morning high of 303.91, those gains turned into losses and it wasn't long after the 11:00 AM EST update, when the BIX.X turned fractionally lower, that the SPX fell through a raised bullish stop at SPX 979, as a sell program hit the SPX at approximately the 982 level, sending it to a session low of 973.83.

I do remember looking at the BIX.X index during the day and seeing its daily bar chart intervals showing Stochastics (5,3,3) reaching the overbought level. It had been an earlier observation last week that the BIX.X Stochastics turned higher from oversold, just as the S&P 500 Index (SPX.X) was reaching what looked like a peak trough on its daily Stochastics.

While I can't rule out an SPX trade to 988 target, the reason I wanted to snug a stop at 979, was more in an attempt to NOT take heat back to the 985 area, while also trying to give the trade some room to work higher to a 988 bullish target. Unfortunately, Treasury YIELDS along with the financial sectors didn't cooperate in today's trade.

After writing this weekend's Ask the Analyst column, and comparing that exercise in the quarterly pivot analysis, I further felt an SPX bull might be hard pressed to get a trade this week much above the 988 level as the MONTHLY Pivot and WEEKLY S1 also provide a more formidable level of resistance, considering Friday's bullish % reading of 73.4% and "bull correction" status. I was looking for a bounce, and I think bulls got the bulk of it in today's trade.

I would not say that there was anything alarming about the bond/banks trade today, but there just wasn't enough boost from the banks and financials a shot at 988. With correlative support at 963 again, but still finding correlative resistance back near 988-989, these two levels, or range of 963-988 isn't all that different that what we were looking at last week. Except that the SPX is at the higher-end of that range.

Ideally, I wanted to exit a bullish trade in the SPX on further strength at 988, sit the rest of the day, take in some YIELD/BANK observations to then look for a short/put trade for a pullback into the WEEKLY S1 area. However, not getting that, I do think it fine for a bear to initiate a bearish trader here, but look for some choppy trade over the next day or two around WEEKLY R1 of 988.

While I'm writing, I still don't have an Internet connection, but I did post a chart of the S&P 500 Index (SPX.X) late Friday evening in the market monitor with the new WEEKLY pivot analysis levels on it. While this chart does not have the q-charts generated bar for today's trade, I'm going to draw that bar on the chart to simply give us an observation of how the SPX traded with its MONTHLY (red) and WEEKLY (blue) retracement, with focus on near-term resistance back near 988-990.

S&P 500 Index Chart - From Friday evening's market monitor.

After preparing the SPX chart with new weekly retracement Friday night, then later writing the Ask the Analyst column, I though to myself, "You'd better snug up a stop under an SPX bullish trade if long from 965 and resistance looks formidable back near 989.

Trader's will note that this week's S1 of 963.7 takes the place of last week's WEEKLY S2 where we found a nice level of support that tied in with the BIX.X support of 296-297. As I look for the SPX to slowly work lower, I'm not certain that I look for an SPX test of WEEKLY S2 at 950 this week, but am more inclined for the SPX to stall around the 990 level, and work lower from there.

I've also placed some past bullish % readings on the SPX at its various inflection points of relative highs and lows to observe internal weakening.

The Dow Industrials (INDU) 9,217 +0.28% made a late session move back higher to finish up 27 points after 3M (NYSE:MMM) 141.90 +1.39% announced it would split its stock 2 for 1. For the most part, the Dow Industrials trade mimicked that of both the S&P 500 Index and narrower S&P 100 Index (OEX.X) 495.12 +0.26%.

Hey! I just got a connection with the Internet in time to get this screen capture of the Dow Industrials (INDU). So here's an updated chart with today's trade.

Dow Industrials (INDU) Chart - Daily Interval

Not unlike the SPX and OEX, the Dow just ran out of steam with a slight backup in YIELD, but came close to testing overhead resistance near WEEKLY R1 of 9,268 and retracement levels found from both the WEEKLY (blue) and MONTHLY (red) pivot analysis.

With technology stocks trying to firm in today's trade, and still looking to have some bounce in them, I think a Dow trader might tend to view 9,340 as more of a top of the range right now as there isn't quite as much weighting with regional banks and homebuilders as we find in the SPX and OEX, but I'm not looking for much prolonged strength at the point above WEEKLY R1.

I will note that the Dow Industrials did close above both its shorter-term 21-day SMA of 9,160 and 50-day SMA of 9,128, the only major equity index, with our pivot analysis to do so, thus the observation that its holding more of its momentum from the March lows at this point and perhaps a beacon of strength for the other major indexes.

Today's trade saw not net change in the very narrow Dow Industrials Bullish % ($BPINDU), which remains "bull correction" status at 80% bullish.

NASDAQ-100 Tracking Stock (AMEX:QQQ) - Daily Interval

While the NASDAQ-100 Index (NDX.X) 1,223.14 +1.31% did trade its WEEKLY pivot of 1,229.55 in today's trade with a session high of 1,230.26, the QQQ came a little shy. Often times, it would be the QQQ that might be sloppier above resistance from a more bullish retail base like you and I. However, I don't think that QQQ traders are quite as aggressive as they've been in recent months from the buy side.

I did like the QQQ from a bullish perspective on Friday as YIELDS were falling and banks were bidding with a stop under the MONTHLY S1 of $29.81, but I would have liked to have seen more bullishness from the trade today. As such, I'd snug a stop up under Friday's lows of $29.93, and be a willing seller from both the long and short/bearish side of things back near $31.11.

Note how the QQQ stochastics are just turning up from "oversold" levels. With Cisco Systems (NASDAQ:CSCO) having recently said it is looking for a more modest 2% to 4% growth in revenue in the coming quarter, it would take an entirely different tone from AMAT to get the QQQ much above the QQQ's WEEKLY R1 of $31.35. I'm not looking for such a surprise out of Applied Materials, where their business prospects would most likely FOLLOW Cisco's.

Today's trade saw no net change in the NASDAQ-100 Index Bullish % ($BPNDX) as it remains "bear confirmed" at 64% for a second- straight session. On Friday this bullish % lost 2 stocks new reversing lower point and figure sell signals.

Well, it is getting late and my Internet connection is spotty at best. I've only been able to briefly get enough connection at this point to show full session updates on the Dow Industrials (INDU) and NASDAQ-100 Tracker (QQQ), and perhaps not unlike a bull placing a tight stop under an SPX trade, I'm going to try and get this Index Trader Wrap wrapped up so when I get another spot of internet connectivity, I can e-mail it to the HTML department across town so they can upload it. Should I get stable Internet connectivity between now and tomorrow morning, I will try and have updated SPX and OEX charts in the 09:00 Update.

I apologize for this evening's inconvenience.

Jeff Bailey

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